Impact of Dividend v Salary on R&D Tax Credits for a Director
A common problem for R&D tax credit claims is where a director shareholder (who is involved in the R&D work) has structured their remuneration as a low salary and the remainder as dividends.
It is common for a director / shareholder to carefully structure their remuneration package in such a way as to minimise income tax and national insurance contributions.
An optimum remuneration package for a director of an SME might, therefore, typically comprise a low(ish) salary with the remainder paid in dividends.
When it comes to R&D tax credits, a key qualifying cost is 'Staffing costs' which comprises:
- Gross Salary
- Employer's National Insurance Contributions
- Employer's Pension Contributions
- Plus Travel & Subsistence (in certain limited & specific circumstances)
Note that there is no mention of dividends in this list...
This is because dividends are NOT a qualifying cost for R&D tax purposes
Example: Low salary / high dividends for director engaged in R&D
James is a director and shareholder in his company and he is fairly heavily involved in the qualifying R&D work.
His remuneration package of £100,000 for the year is structured as £9,500 salary and £90,500 as dividends.
James has spent say 60% of his time on the qualifying R&D work and the rest of his time on existing customer work ('routine work') and marketing, strategy and other non qualifying work for R&D purposes.
Unfortunately, due to this remuneration structure, James is unable to claim 60% of his total package of £100,000.
He is limited to applying the 60% to the £9,500 salary element only.
This results in qualifying staffing costs of just £5,700 (@ 60% time spent) generating a corporation tax saving of approx £1,400 if the company is profitable or £1,900 if loss-making (and the tax credit claimed).
Example: High salary / Low dividends for director engaged in R&D
Exact same facts as above, except James structures his £100k remuneration package as £98,000 salary and £2,000 as dividends (tax free £2,000 dividend allowance).
60% of the £98k salary results in £58,800 of qualifying costs which in turn generates a corporation tax saving of approx £14,500 if the company is profitable or £19,500 if loss-making (and the tax credit claimed).
That's a difference of £13,100 in cash tax savings if profitable and £17,600 if loss-making/pre-revenue.
Note also that the 60% apportionment figure is arbitrary for the sake of this example - it could be higher or lower in your case.
Also, this higher salary remuneration package would incur significantly higher income tax and national insurance contributions (although the relevant apportionment of employer's NIC could be included in the R&D claim).
What's the optimal remuneration package for you if engaged in R&D work?
Despite the above analysis, it might be that a remuneration package that is skewed towards a lower salary and the remainder in dividends is 'on balance' preferable for you - it depends on your exact circumstances (e.g. degree of involvement in the R&D).
As with any tax planning, you need to consider the wider impact taking into account both your personal and company tax position.
As ever, you should 'crunch the numbers' before making a decision.
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